The Chinese Purchasing Managers’ Index (PMI) has been above 50 for the last two months, indicating expansion in the economy. Other data points like credit growth at 15 per cent in the first quarter of the year and record steel production in March have taken market participants by surprise.
Many who track China closely, including legendary investor George Soros, argue that the stimulus provided by the government is exactly opposite to the new normal it set to achieve by moving away from manufacturing to services. Hence, the uptick in data points may not be sustainable as the growth stimulus decreases. At the same time, what is worrisome is that there has been speculative interest from retail in bond and commodity markets (post the equity frenzy last year) which could burst anytime, leading to a negative spiral.
Brazil is in the midst of impeaching its President and market participants have given a thumbs-up, with a huge rally in both equity and currency markets probably because they have been oversold. Yet the reality is that the budget deficit, which has increased from 3 per cent of GDP in 2013 to 10.4 per cent of GDP in 2015, and public debt, which increased from 51 per cent to 66 per cent of GDP, could cause severe pressure on growth.
Turkey has sold more than 6 per cent of its forex reserves to support its currency lira in the past six months. The sudden resignation of its Prime Minister has pushed the country into a political turmoil. Malaysia has political challenges and controversy around the State-owned investment fund 1MDB. The fund has defaulted on a $1.75-billion bond by missing on a $50-million interest payment, and the currency taking a plunge. Indonesia has a severe non-performing assets issue but the banks are reluctant to identify them and, in fact, lend more to these troubled entities.
When you compare the condition of the emerging market peers with that of India, you would find that India has provided no extraordinary growth stimulus, has political stability, has enough reserves to tide over global developments and has been identifying non-performing loans in the banking system. That is evident in the relative strength of the Indian rupee compared to the others.
Some of the recent developments and data points make us more positive on the markets. In the middle of the month we have seen India stand its ground to tax capital gains arising out of transaction of shares through the Mauritius route. Memories are still fresh in market participants’ minds when such an idea, leave aside action, had caused panic in the markets in the previous years. Keeping the event well-guarded, the prospective nature of taxation with enough lead time and proper communication made markets accept it with low volatility.
The Bankruptcy Bill was passed in both Houses in the recent Budget session of Parliament. This has been a long-standing requirement of the industry which will help in establishing transparent and time-bound processes. Though it has limited impact in the short term it is a step in the right direction. The Aadhaar Bill passed recently will help in direct transfer of subsidies and payments to beneficiaries’ bank accounts. It is estimated that at least ₹27,000 crore has been saved through direct transfer in the last two years.
The recent high frequency data points suggest that there are signs of recovery. For instance, cement production is at an 18-month high and diesel consumption at a four-year high. Sales of commercial vehicles are at a four-year high. Two-wheeler and tractor sales are seeing a recovery. Air passenger traffic is seeing consistent double-digit growth. These are clear signs of recovery. The economy would be set for lower interest rates due to transmission by banks. This is possible due to the RBI’s intent to get the system liquidity into neutral zone and implementation of MCLR by banks.
We are in the midst of the earnings season. There are more positive surprises than negative ones which would help create a bottom in the earnings cycle. Our internal analysis of the top 100 companies points to a 15 per cent growth in earnings for FY17 on a base-case basis. The earnings would get a fillip if the monsoon turns out to be normal or above normal. The Seventh Pay Commission, through an increase in compensation of government employees, could provide a stimulus of over 2.4 per cent of GDP over two fiscal years. All these, while maintaining fiscal rectitude.
So, the message for investors is “Don’t miss the forest for the trees.” Keep investing and make volatility in the markets your friend.
The writer is Co-Chief Investment Officer, Birla Sun Life AMC